Inside the New iShares Commodity ETF

iShares, the world’s largest provider of ETFs, is fast approaching 300 total funds in the U.S. market. This is largely thanks to the firm’s solid product development pace in the second and third quarters, as the company has launched a series of ETFs targeting equity-factors, as well as corporate bonds.

The latest addition from iShares is in the commodity world with the Dow Jones UBS Roll Select Commodity ETF (CMDT). This is actually the first commodity-focused ETF for iShares since 2006, so undoubtedly expectations will be high for this product, as the company hasn’t really shown much interest in commodities as of late (see Inside the New Quality ETF from iShares).

It is also worth noting that this ETF looks to go beyond some of the original funds in the commodity space and will focus on contango and backwardation in order to select contracts. Hopefully, this process will assist in producing some outperformance for this ETF, or at least help in keeping roll costs at a minimum.

For investors interested by another iShares foray into the commodity world, we have highlighted some of the key details regarding this recent launch below:

CMDT in Focus

The ETF looks to track the Dow Jones-UBS Roll Select Commodity Index Total Return, a benchmark that holds 22 commodity futures contracts. The index seeks to minimize the cost of rolling each contract, and looks to include commodities from each of the six major groups; energy, grains, industrial metals, precious metals, softs, and livestock (read 2 Commodity ETFs Offering Investors Sweet Returns).

The fund looks to minimize rolling costs by focusing on futures contracts that have the least amount of contango or the most backwardation. This is done by selecting contracts based on observed contango and backwardation levels that are within 273 calendar days until expiration, and then choosing the most favorable.

As a refresher, contracts with backwardation are priced lower than those with nearer delivery months, while those with contango are priced higher than those with nearer delivery months. So when contango is seen, and investors roll from one contract to the next, losses can accumulate making it difficult to see solid commodity returns.

In terms of commodity sector weights for the index, energy takes the top spot at nearly 40% of the total, followed by grains (20.5%), industrial metals (16.1%), and precious metals (12.2%). Softs and livestock, (respectively at 8.2% and 5.5%) round out the rest of the portfolio, suggesting a heavy concentration in energy commodities.

For individual holdings, natural gas takes the top spot at roughly 13.2% of the portfolio, followed by crude oil at 10.8%. Rounding out the top four are gold (9.4%) and copper (6.7%), while Brent crude, corn and soybeans comprise the rest of the top seven (also see the full list of Top ETFs).

For this exposure, the ETF charges investors 75 basis points in fees, putting it just below the average for commodity ETF expenses.

How does it fit in a portfolio?

This product could be a good choice for investors seeking broad commodity exposure across all six of the major sectors. It may be an especially solid pick for investors who desire some level of contango fighting exposure in their commodity portfolios, as this may lead to outperformance when compared to some ‘traditional’ products.

This fund may not be a good pick for those that are looking for very spread out exposure across the various commodities, as energy and grains make up a huge chunk of assets, while individual commodities receive very large weights as well. Additionally, due to competition and since the fund just launched, trading volumes might be rather low to begin with for this commodity ETF, so bid ask spreads might be a bit wide.

ETF Competition

For investors seeking other broad commodity ETFs, there are plenty on the market. Broad competitors seem likely to include DBC from PowerShares and GSG from iShares, both of which have more than one billion in assets under management.

However, in terms of contango fighting products, investors also have USCI from United States Commodity Funds. This product, which has half a billion in assets, also looks to avoid contango issues, though it does so by only selecting commodities that have the most backwardation, or at least the lowest levels of contango (see Is USCI The Best Commodity ETF?).

This can result in a very concentrated portfolio, as agricultural commodities make up over two-fifths of the assets, followed by a 30% allocation to energy. Plus, only 14 commodities are included in the ETF at any one time.

Given this, and the fund’s much higher expense ratio, CMDT could find a way to accumulate some assets in the space. The new iShares fund will have to show some outperformance above and beyond USCI first though, as the commodity ETF world is rife with competition and investors are certainly not starved for choice in this corner of the market.